There's no doubt that money can be made by owning shares of unprofitable businesses. For example, although Amazon.com made losses for many years after listing, if you had bought and held the shares since 1999, you would have made a fortune. Having said that, unprofitable companies are risky because they could potentially burn through all their cash and become distressed.
So, the natural question for Thomson Resources (ASX:TMZ) shareholders is whether they should be concerned by its rate of cash burn. For the purposes of this article, cash burn is the annual rate at which an unprofitable company spends cash to fund its growth; its negative free cash flow. First, we'll determine its cash runway by comparing its cash burn with its cash reserves.
When Might Thomson Resources Run Out Of Money?
You can calculate a company's cash runway by dividing the amount of cash it has by the rate at which it is spending that cash. In December 2019, Thomson Resources had AU$93k in cash, and was debt-free. Looking at the last year, the company burnt through AU$349k. Therefore, from December 2019 it had roughly 3 months of cash runway. That's a very short cash runway which indicates an imminent need to douse the cash burn or find more funding. Importantly, if we extrapolate recent cash burn trends, the cash runway would be noticeably longer. Depicted below, you can see how its cash holdings have changed over time.
How Is Thomson Resources's Cash Burn Changing Over Time?
Whilst it's great to see that Thomson Resources has already begun generating revenue from operations, last year it only produced AU$3.3k, so we don't think it is generating significant revenue, at this point. Therefore, for the purposes of this analysis we'll focus on how the cash burn is tracking. Over the last year its cash burn actually increased by 10%, which suggests that management are increasing investment in future growth, but not too quickly. However, the company's true cash runway will therefore be shorter than suggested above, if spending continues to increase. Admittedly, we're a bit cautious of Thomson Resources due to its lack of significant operating revenues. We prefer most of the stocks on this list of stocks that analysts expect to grow.
How Easily Can Thomson Resources Raise Cash?
Given its cash burn trajectory, Thomson Resources shareholders should already be thinking about how easy it might be for it to raise further cash in the future. Issuing new shares, or taking on debt, are the most common ways for a listed company to raise more money for its business. Commonly, a business will sell new shares in itself to raise cash to drive growth. By comparing a company's annual cash burn to its total market capitalisation, we can estimate roughly how many shares it would have to issue in order to run the company for another year (at the same burn rate).
In the last year, Thomson Resources burned through AU$349k, which is just about equal to its AU$356k market cap. That suggests the company may have some funding difficulties, and we'd be very wary of the stock.
Is Thomson Resources's Cash Burn A Worry?
There are no prizes for guessing that we think Thomson Resources's cash burn is a bit of a worry. In particular, we think its cash burn relative to its market cap suggests it isn't in a good position to keep funding growth. While not as bad as its cash burn relative to its market cap, its increasing cash burn is also a concern, and considering everything mentioned above, we're struggling to find much to be optimistic about. Its cash burn situation feels about as comfortable as sitting next to the lavatory on a long haul flight. It's likely to need more cash in the near term; and that could well hurt returns. On another note, we conducted an in-depth investigation of the company, and identified 6 warning signs for Thomson Resources (4 are a bit unpleasant!) that you should be aware of before investing here.
Of course Thomson Resources may not be the best stock to buy. So you may wish to see this free collection of companies boasting high return on equity, or this list of stocks that insiders are buying.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
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